One Year After Amazon's Whole Foods Buy, The Online Grocery Battle Lines Are Being Drawn

Amazon's acquisition of Whole Foods, announced one year ago this week, has created ripple effects from the pockets of grocery shoppers to the profits of Wall Street investors. But the seismic wave of change the deal could have on retail's future has only just begun to take shape.

Amazon is betting it can transform the $641B U.S. grocery industry the same way it has so many others: by delivering products to consumers' doorsteps faster and more cheaply than its competitors.

In the 12 months since the $13.7B deal became public, the e-commerce giant's market share has grown dramatically, and traditional grocers like Walmart and Kroger have raced to respond, hoping to take advantage of their larger retail footprints by incentivizing shoppers to pick up online purchases in store. 

“We think digital grocery is going to be significant and accelerate over the next several years between Amazon, Walmart, Kroger and Target all doing digital grocery,” said Tesley Advisory Group analyst Joseph Feldman, who closely follows Amazon. “[The Whole Foods acquisition] is integral to Amazon’s effort there because of the ability to ship from the store, click and collect or just ship from warehouses.”  

Amazon’s share of total U.S. retail sales by the end of 2017 was 5.6%, according to Tesley data. With Whole Foods under its control, Feldman predicts that by 2020, Amazon will account for 10% of all retail sales in the country. 

The Integration 

Amazon announced it was buying Whole Foods for $13.7B in cash June 16, but the deal did not close until Aug. 28, and Whole Foods customers felt the effects immediately.  

On day one of owning the grocer, nicknamed “Whole Paycheck” because of the cost of its offerings, Amazon cut prices on over a dozen popular items, such as avocados, brown eggs and ground beef, with some price cuts as high as 43%. If the lower prices weren’t enough to tip off customers to the new ownership, the new display of Amazon Echo and Dot devices installed that same day likely did the trick.

While Amazon dropped prices on a selection of popular food items, Feldman expected a larger discounting effort.  

“I would have thought they would have lowered prices more broadly at Whole Foods,” Feldman said. “I don’t feel like they just went across the board and took prices down 20%.”  

The day Amazon announced the price cuts, stocks of competing grocers fell off a cliff. The combined losses of Kroger, Walmart, Target, Costco, Supervalu and Sprouts Farmers Markets erased $11.6B in market value that Friday alone, a bleak foreshadowing of what was to come for the traditional grocery industry.  

Amazon’s stock has skyrocketed from $964/share to $1,689/share in the 12 months since the acquisition was announced, a 75% increase. During that same period, only Target posted gains anywhere near as large, with 42.6% growth. Costco's stock rose 13.6%, while Walmart's increased 6.8% and Kroger's gained 4%. Supervalu's share price has plummeted 24% and Sprouts’ stock declined by 4%.  

Amazon cut prices at Whole Foods again in November, reducing the cost of many common holiday items like turkey, sweet potatoes and canned pumpkin. The holiday discounts were even greater for Amazon Prime members, signaling a further step in the integration that Amazon has begun to unveil in recent months.  

In mid-May, Amazon rolled out benefits for Prime members at Florida Whole Foods locations, offering 10% discounts on a variety of marked items with some specialty sales as high as 50%. Two weeks later, it widened the scope of the discounts to 12 states: Arkansas, Colorado, Florida, Idaho, Kansas, Missouri, Louisiana, New Mexico, northern Nevada, northern California, Oklahoma and Texas. The company added 10 more states Monday and said it plans to bring discounts to all U.S. stores this summer. 

“The thesis is around capturing more of the spend of each consumer, so from that perspective, it makes perfect sense doing the tie-in with Whole Foods shoppers, because they increase the loyalty of those consumers even more and capture more of their spend,” said Boston Consulting Group Managing Director Elfrun Von Koeller, a supply chain expert who has authored reports on e-commerce’s disruption of the grocery industry.  

In a similar state-by-state rollout that could have much larger implications for the grocery industry, Amazon this year began to introduce two-hour delivery of Whole Foods products with its Prime Now service. The service is free for Prime members for purchases over $35 if they select two-hour shipping, and they can have the items in as quickly as one hour for an additional $7.99 fee.

Prime Now delivery began in February with four markets: Austin, Cincinnati, Dallas and Virginia Beach. Then in March, Amazon expanded the service to Atlanta and San Francisco, followed by four more cities in April: Los Angeles, Denver, Sacramento and San Diego.  

“The pace at which this [delivery] service is expanding speaks to the success of the initial tests and is simply the opening salvo in Amazon’s long-term goal of turning Whole Foods' footprint into effective e-commerce delivery points, a task that Amazon is uniquely qualified for,” Evercore analyst Anthony DiClemente wrote in a report.  

How is it changing the industry?  

Twenty-four years after Jeff Bezos founded the company and disrupted the bookstore market by delivering books straight to customers’ homes, he is betting the same strategy will lead to Amazon’s domination of the grocery industry.  

Delivering groceries is much more logistically challenging than putting books in the mail. Protecting and preserving fresh food until the time customers retrieve it from their doorstep requires an efficient logistics network that can be costly to build. This is why AmazonFresh, its grocery delivery service, costs $14.99 per month in addition to the standard Prime fee, and individual orders under $50 come with a $9.99 delivery fee. Amazon plans to integrate the Prime Now grocery delivery with AmazonFresh, which offers a much wider selection of items.  

If the integration can help Amazon bring down the price of quickly delivering a large menu of options around the country, Feldman said it will be a game changer in growing its share of the grocery industry. He believes it is a matter of when, not if. 

“It’s going to get to a point where it’s going to be free or just nominal fees, and it just puts pressure on everybody else to have to match,” Feldman said.  

Estimates of e-commerce’s total share of the grocery market range from 2% to 4.3% as of January, according to Nielsen’s Food Marketing Institute, which projects the internet will capture 20% of the grocery market by 2025.  

Amazon was the dominant player in the online grocery market last year, with $2B in food and beverage sales, according to One Click Retail’s 2017 report, 18% of the total market. The company then brought in an estimated $650M in grocery sales in Q1, a 48% year-over-year increase. One Click Retail attributes this growth largely to the Whole Foods deal, noting that customer traffic at its stores grew by 25% in the two days after the acquisition.  

“The biggest growth driver of late 2017, which will inevitably have a major influence on sales well into 2018 and beyond, is Amazon’s acquisition of Whole Foods,” One Click Retail CEO Spencer Millerberg said in January.  

As the pioneering e-commerce company, Amazon has a lengthy head start over any grocer that tries to build a delivery network from the ground up. But retail giants like Walmart and Kroger do have one advantage over Amazon: a larger footprint. Walmart has more than 5,000 stores nationwide, while Kroger has over 2,500 supermarkets. Whole Foods has 464 stores in the U.S.  

This gives Amazon’s competition a leg up for the online grocery ordering method known as "click and collect," in which customers select their order online and it is ready for quick pickup when they arrive at the store, rather than having to walk through aisles and wait in line at the register.  

“Click and collect is more preferable to grocers than full online delivery because they save on shipping and returns,” said CBRE's Americas head of retail research, Melina Cordero. “That’s why retailers are trying to push the pick-up-in-store method to save on logistics costs. What you’ll likely see across the industry is some sort of incentivizing of customers to pick up.”  

Traditional retailers have made some moves toward grocery delivery since the Whole Foods acquisition, signaling a refusal to allow Amazon to dominate the space. Walmart in March said it plans to roll out its grocery delivery service, currently available in six cities, to over 100 metro areas by year-end. Kroger announced it is expanding its delivery partnership with Instacart, planning to add the service to 500 new locations this year. Target in December agreed to buy grocery delivery startup Shipt Inc. for $550M. 

Boston Consulting Group's Von Koeller studied other countries further along than the U.S. in adopting online grocery shopping and said the trend can go in one of two directions. In France, retailers decided not to invest in delivery, and the entire market has adapted to click and collect, but the United Kingdom was a different story. 

“You look at the U.K. and it’s all home delivery, people started delivering, and click and collect couldn’t compete,” Von Koeller said. “If you educate consumers that they can get home delivery, they want that.”  

She envisions the future of U.S. grocery buying as predominantly click and collect, because it is much easier in rural and suburban areas where homes are spread out and everybody commutes with a car, allowing them to pick up pre-ordered items on their way home. But she expects delivery to dominate in some denser urban markets where the shipments have to cover less ground and fewer people have cars to drive to the store.  

After the Whole Foods acquisition, Von Koeller expected Amazon to roll out click and collect at its stores, but the company has not launched that initiative in the first year.

“One challenge is a lot of the [Whole Foods] stores are not great for click and collect because you need to add a physical space for the cars to pull up and get the product,” Von Koeller said. “A lot of Whole Foods stores are in very urban areas and don’t have space to set it up that way.”  

This urban-rural divide should make national retailers with large rural presences like Walmart and Kroger confident about their future, but smaller regional chains could be put out of business by online grocery buying.  

“The regional guys that don’t find a way to differentiate are going to get squeezed out, but not all of them,” Von Koeller said. “Ones like Wegmans with high-quality customer services — and being a local company has a value proposition — have a good chance of surviving.”  

Rochester, New York-based Wegmans has been spreading across the East Coast and has begun to move from suburban locations to urban, mixed-used stores. One D.C.-area developer who has worked on multiple Wegmans and Whole Foods projects said they are vying for the same customer, and the Amazon acquisition could present a challenge for Whole Foods in that competition.  

“One is run and owned by a grocery store family and the other is a great chain that is now owned by an internet company,” Roadside Development founding partner Richard Lake said. “So the question is: How does Whole Foods stay true to itself? Because it is a great operator with a terrific product. How do they take that internet ownership and take advantage to help them and their efficiency without giving away what makes Whole Foods so special?”